For CFOs of post-merger companies, conducting an annual impairment test of goodwill on the financial statements is a routine task. Goodwill refers to the intangible value of an acquired company that exceeds the fair market value of its tangible assets. After the acquisition is completed, the acquirer must report the value of the new reporting unit and, if impairment occurs, disclose the impairment amount year by year.

Due to intense debate in the industry surrounding impairment and how it is calculated, goodwill accounting practices continue to evolve, and companies have to adjust their strategies accordingly.

The most recent rule revision occurred in 2017, but it only formally became applicable to public companies reporting to the SEC in December of this year. Non-SEC public companies will be subject to it at the end of this year, while other entities, including nonprofits, must comply by the end of 2021.

If you are the CFO of a public company that must adopt the new rules this year, your challenge is to incorporate the new guidance into strategic planning and find the best path to compliance. If your company or nonprofit does not need to adopt the new rules this year, you may still consider early adoption, as it helps clarify details before mandatory compliance.

Process simplification: from a two-step method to a one-step method

Under the latest revision, companies no longer need to calculate the implied fair value of goodwill in a reporting unit. Instead, they recognize an impairment loss directly based on the amount by which the reporting unit's carrying amount of goodwill exceeds its fair value.

This update was issued by the Financial Accounting Standards Board (FASB) (ASU 2017-04), which effectively simplifies the process because it eliminates a step.

Previously, the quantitative impairment test consisted of two steps: the first step compared the fair value of the reporting unit with its carrying amount; the second step calculated goodwill impairment by comparing the implied fair value of goodwill with its carrying amount. Because the industry complained that the second step was a burdensome formality and, in some cases, redundant, the FASB eliminated that requirement.

After the change, when the carrying amount of a reporting unit exceeds its fair value, a company recognizes goodwill impairment. The impairment is based on the difference between the two, and the second step is no longer necessary.

For companies that do not expect to record an impairment, this change makes the process simpler. But for others, it is not that simple.

"If an asset is impaired, you may need to do additional work," Phil Ilgenstein, a partner at the Austin, Texas-based consulting firm Weaver and Tidwell, LLP, told CFO Dive. "If there is no impairment, then you can rip off the band-aid and move on without spending time on an academic exercise thinking about how to allocate the impairment on the balance sheet."

Nevertheless, there are still some concerns about the one-step method because it may not clearly indicate whether the goodwill impairment of a reporting unit actually stems from losses on other assets, such as loan receivables or fixed assets.

Start early: expert advice

Although the process may be simplified, reporting experts advise companies to start the relevant procedures early.

"You might fall into a pattern: 'Okay, I will just think about it again at the annual impairment test,'" Ilgenstein said. "But you should start early and not underestimate it."

Ilgenstein advises companies to "begin adding disclosures in public financial statements indicating that they are adopting the accounting standard and what they believe the potential impact may be."

Finance leaders should also analyze their own company's history of goodwill impairment. "I advise CFOs to look back at the last few times they had to perform a full test," Doug Reynolds, a partner at Grant Thornton LLP in Boston, told CFO Dive. "See whether the results would have been different."

For example, Reynolds said, "If a company did this test two years ago, pull out the file and see whether there was an impairment. If the rules had changed at that time, would the result have been different?"

In addition, companies can still choose to limit the test to a qualitative assessment to determine whether goodwill can be amortized as an indefinite-lived intangible asset. This was the process under the old rules and is retained in the new rules, allowing companies to perform an initial assessment (i.e., a qualitative test) to determine whether the fair value of the acquired company can be treated as an indefinite-lived intangible asset.

"Whether a company can perform only a qualitative test or should also conduct a full quantitative analysis is a matter of judgment," Reynolds said.

Companies that adopt the new guidance early may also provide valuable information. Reynolds suggests reviewing the EDGAR filings of early adopters. "Just look at their disclosures," he said. "They will describe how they applied the new rules, and from that you can see the impact of early adoption."

Finally, Reynolds advises working closely with auditors. "Ask the auditor whether a qualitative assessment is sufficient or whether the company should perform a quantitative assessment." Another risk-avoidance strategy is to bring the audit committee into the communication. "Keep the audit committee informed of all your conversations with the auditor," Reynolds said.